2007 Social Security Trustees Report Shows the Urgency of Reform

About the Author

"There are risks and costs to action.
But they are far less than the long range risks of comfortable
inaction."

-John F. Kennedy

"We are increasingly concerned about inaction on the
financial challenges facing the Social Security and Medicare
programs. The longer we wait to address these challenges, the more
limited will be the options available, the greater will be the
required adjustments, and the more severe the potential detrimental
economic impact on our nation."

-2007 Trustees Report

The 2007 Social Security Trustees Report was released on April
23. This briefing explains the important facts and answers the
frequently asked questions about Social Security's financial
outlook.

How will this report affect the Social Security
debate? The debate about whether Social Security faces a problem and
needs to be fixed is over. The 2007 Trustees Report shows that the
program faces massive annual deficits starting in just 10 years.
Now is the time to focus on solutions. Several plans to establish
personal retirement accounts have been shown to fix Social
Security. Instead of just criticizing these plans, personal account
opponents need to propose comprehensive programs that permanently
fix Social Security. Opposing a potential solution is not the same
thing as coming up with a plan.

Has the size of the Social Security problem changed over
the last year?

In net present value terms, Social Security owes $6.8 trillion
dollars more in benefits than it will receive in taxes. That number
includes $2.0 trillion, in net present value terms, to repay the
bonds in Social Security's trust fund. This $300 billion increase
is almost 4.5 percent higher than last year's $6.5 trillion number.
The 2007 number consists of $2.0 trillion to repay the special
issue bonds in the trust fund and $4.8 trillion to pay benefits
after the trust fund is exhausted in 2041.

Net present value measures the amount of money that would have to
be invested today in order to have enough money on hand to pay
deficits in the future. In other words, Congress would have to
invest $6.8 trillion today in order to have enough money to pay all
of Social Security's promised benefits between 2017 and 2081. This
money would be in addition to what Social Security receives during
those years from its payroll taxes.

The Trustee Report's perpetual projection extends beyond the
usual 75-year planning horizon. In net present value terms, the
perpetual projection is $13.6 trillion, including money necessary
to repay bonds in the trust fund. Last year's number was $13.4
trillion. This means that the net present value deficit of Social
Security after 2081 is $8.9 trillion. These projections show that
Social Security's total deficit continues to grow well beyond the
75-year projection period. Any reform that just eliminates deficits
over the 75-year window will not be sufficient to solve the
program's problems.

This is important because many opponents of reform claim that
raising payroll taxes by about 2 percent, the average percentage
difference between revenues and outlays over the 75-year period,
would solve Social Security's problems. The reality, however, is
that the program's future deficits are projected to be large
and growing so that this tax increase would still leave a
huge shortfall. These new projections should end the claims that
Social Security's impending financial crisis can be resolved with
modest changes to the current system.

In actuarial terms, Social Security's long term financing
appears to have improved from a 75-year deficit of 2.01 percent of
taxable payroll in last year's report to a deficit of 1.95 percent.
However, a closer examination shows that almost all of that
improvement comes from changes in the Disability Insurance program.
The actuarial deficit of Social Security's retirement and survivors
program actually worsened, going from a 1.68 percent deficit to a
1.69 percent deficit.

Social Security spending will exceed projected tax collections
in 2017. These deficits will quickly balloon to alarming
proportions. After adjusting for inflation, annual deficits will
reach $67.8 billion in 2020, $266.5 billion in 2030, and $330.9
billion in 2035.

Is the important year to consider 2041, 2017, or
2009? The year when Social Security begins to spend more than it
takes in, 2017, is by far the most important year. From that point
on, Social Security will require large and growing amounts of
general revenue money in order to pay all of its promised benefits.
Even though this money will technically come from cashing in the
special issue bonds in the trust fund, the money to repay them will
come from other tax collections or borrowing. The billions that go
to Social Security each year will make it harder to find money for
other government programs or require large and growing tax
increases.

A second important year is 2009. Starting in just two years, the
annual Social Security surpluses that Congress has been borrowing
and spending on other programs will begin to shrink. From that
point on, Congress will have to find other sources to replace the
money that it borrows from Social Security or shrink spending. By
2017, Congress will have about $100 billion less to spend
annually.

Compared to these two dates, 2041-the year that the Social
Security trust fund runs out of its special issue bonds-has little
importance. Even though the end of those bonds will require a 25
percent benefit reduction, Congress would have been paying over
$300 billion a year (in 2007 dollars) to repay those bonds for
about 7 years by the time the trust fund runs out. Congress will
have to do this through some combination of other spending cuts,
new taxes, or additional borrowing. These are the same choices
Congress would face without the trust fund.

Did politics influence the trustees
report? No. Social Security Administration Chief Actuary Stephen Goss
and his staff of non-partisan experts produce the numbers in the
Trustees Report. They are respected professionals who never have
been, and are not, subject to political pressure. Goss has been at
SSA since 1973 and is internationally respected. Although members
of the President's cabinet serve as trustees, they have little
influence over the numbers. The 2007 numbers are substantially
similar to those in the Trustees Reports issued during the Clinton
Administration.

When will Social Security begin to run a cash-flow
deficit? According to the 2007 Trustees Report, the year that Social
Security will begin to spend more in benefits than it receives in
payroll taxes remains at 2017-the same as in last year's report.
The year the "trust fund" is exhausted also moves back a year to
2041 from last year's 2040, but this change has little significance
to the program's unsustainability.

What are the operating numbers from the current
year? The Trustees Report includes detailed information about the
aggregate amount of payroll taxes paid in the previous calendar
year and the aggregate amount of benefits paid in that year. It
also includes data on operating expenses. In 2006, the Old-Age and
Survivors Trust Fund, which pays for retirement and survivors'
benefits, took in $642.2 billion and paid out $461.0 billion. Its
annual surplus was $181.3 billion, but only $89.5 billion of that
came from payroll tax receipts. The remaining $91.8 billion of the
surplus came from a paper transaction that credited interest to the
trust fund.

What does it all mean?

Good news for seniors. The benefits of current
retirees and those close to retirement remain completely safe. The
2007 report shows that the program will have enough resources to
pay full benefits until 2017. Despite political scare tactics,
seniors can rest assured that their benefits are safe and that they
will receive every cent that they are due, including an annual
cost-of-living increase.

Bad news for younger workers. Unfortunately,
younger workers have a great deal to worry about. Even though their
parents' and grandparents' benefits are safe, theirs are not. Any
worker born after 1974 will reach full retirement age after the
trust fund is exhausted. Unless Congress acts soon, younger workers
can look forward to paying full Social Security taxes throughout
their careers but only receiving 75 percent or less of the benefits
that have been promised to them. In addition, they will have to
repay the Social Security trust fund, an expense that will total
almost $6 trillion by the time the trust fund is exhausted in
2041.

Social Security must be reformed. Today's
Social Security cannot last. The report shows that there is a 95
percent chance that Social Security will run multi-billion-dollar
annual deficits starting in about 2017. The system has promised
trillions of dollars (in 2007 dollars) more in benefits than it
will have the ability to pay. Just repaying Social Security's trust
fund will cost about $6 trillion by the time the trust fund is
exhausted in 2041.

Delay makes it even harder to reform Social
Security. Every year, there is one less year of surplus
and one more year of deficit. Once those deficits start in 2017,
the Trustees Report shows that they will never end. Each year, with
the disappearance of another year of surplus, reforming Social
Security gets more expensive.

Delay will make it harder to run the rest of the
government. If Social Security is not reformed, by 2041 it
will require about 13 percent of all income taxes collected that
year, in addition to what the program would receive from its
payroll taxes, to pay all promised benefits, and its draw on the
general budget will continue to grow. This will make it much harder
for our children and grandchildren to pay for government programs
dealing with national security, health, education, and the
environment.

Delay makes massive tax increases much more likely. The
2007 report shows that Social Security will begin to run cash flow
deficits in about 10 years.However, of the three general ways to
fix Social Security, two, changing benefits and establishing Social
Security accounts, will take years to have a real effect. Accounts
of any size need to grow for about 20 to 25 years before they are
large enough to pay much in the way of retirement benefits. Benefit
changes are politically feasible only if current retirees and those
close to retirement are not affected, which means that it would be
at least 10 years or more before changes start to take effect. On
the other hand, some prefer tax increases because they would
immediately pump money into Social Security. But that band-aid
would just delay the start of real long-term
reform and make it much more likely that Congress would
keep taking the easy way out by
raising taxes.

Include a personal savings element. Allowing
American workers to save and invest a portion of their income in
accounts that they would own is the lowest cost way to ensure that
they have an adequate retirement income. The alternative is a
combination of benefit cuts and tax increases. Without personal
retirement accounts, workers will end up paying more taxes for less
benefits.

False lessons that should be avoided

Social Security's problems are so far in the future
that we don't need to worry about them. It takes about 22
years to grow a taxpayer. Almost every new taxpayer who will begin
a career after graduating from college in 2025 is living today and
can be counted. Similarly, everyone who will receive Social
Security retirement benefits in the year 2040 is alive, and most of
them are paying taxes. Social Security's problems are based on
demographics, which do not change from year to year. The people who
will be hurt if nothing is done to fix Social Security are not
unknown people of the future. They are our children and
grandchildren of today.

Repealing President Bush's tax cuts will make it easier
to pay for Social Security. Repealing tax cuts today will
not make it easier to pay for Social Security in the future. Social
Security does not need any additional cash to pay benefits for
about another 10 years. During the interim, Congress would just
spend the additional money on new programs, and by the time it
might be used to pay benefits, every dollar would be committed to
new "essential" programs that cannot be cut.

Background Information

What is the Trustees Report? The Social Security Act requires the Trustees of the Social
Security trust funds to issue an annual report on the financial
status of those trust funds. This report includes not only current
financial information, but also projections about the funds'
ability to finance promised benefit payments in the future. If the
report shows that the trust funds will be unable to finance all of
these payments (as all recent reports have), the law requires the
Trustees to recommend ways to make up the shortfall. However, this
requirement is regularly ignored.

The Trustees include the Secretaries of Treasury, Labor, and
Health and Human Services, the Social Security Administration
Commissioner and Deputy Commissioner, and two public trustees
appointed by the President and confirmed by the Senate. The public
trustees are Thomas R. Saving of Texas A & M University and
John L. Palmer of Syracuse University. They were nominated to a
four-year term by former President Bill Clinton in 2000 and
approved by the Senate later that year. Both public trustees were
nominated for a second term, but after the Senate refused to
consider the nominations, President Bush gave them both recess
appointments that extended their terms until December of this
year.

The 2007 report is the sixth to include the full input of these
public trustees and continues to include a great deal of additional
information that was not available in previous reports. Both
trustees have spoken about the need to include more and clearer
information so that the public can fully understand the state of
the Social Security trust fund and the financial challenges that
lie ahead. This year's report again shows the value of their
efforts.

Social Security's three scenarios for the
future
The Trustees use three scenarios to project Social Security's
financial future. The middle scenario, called the "intermediate
projection," is the most likely to occur. That is the reason that
it is usually cited. The Trustees also include both a more
optimistic projection and a more pessimistic projection. Although
all three are listed, it is not correct to assume that there is an
equal chance that each might occur. In fact, there is a less than
five percent chance that either of the other two scenarios will
occur.

What's missing from the report?

A measure of workers' rate of return. The
Trustees Report does not include any measure of what workers
actually receive for their payroll taxes. The best way to
accomplish this would be to include a chart that plots implicit
rates of return by birth year. Similar to a chart found in the
Government Accountability Office's August 1999 report on Social
Security's rate of return, this chart would illustrate to Americans
that the rate of return from Social Security has steadily and
dramatically decreased. For instance, GAO's chart shows that a
worker born around 1920 could expect a rate of return from Social
Security taxes of about 7 percent after inflation. A worker born in
mid-1980s, however, could expect a return of less than 2 percent.
If they were provided with these figures, workers would see that,
unless the current system is reformed, they can expect lower
returns on their taxes than their parents and grandparents
received. More important, they would see that their children and
grandchildren will receive even less from Social
Security.

Information on the nature of its trust funds and how
they differ from private-sector trust funds. The Office of
Management and Budget explained in its fiscal year 2000 budget
document that the Social Security "trust funds" do not contain
stocks, bonds, or other assets that could be sold directly for
cash. Unlike private-sector trust funds, the Social Security trust
funds contain only IOUs that will have to be paid back with future
taxes. As OMB noted,

These balances are available to finance future benefit
payments...only in a bookkeeping sense. They do not consist of real
economic assets that can be drawn down in the future to fund
benefits. Instead, they are claims on the Treasury that, when
redeemed, will have to be financed by raising taxes, borrowing from
the public, or reducing benefits, or other expenditures.

How does Social Security operate?
For a briefing on how Social Security operates, how the trust fund
works, how benefits are calculated, and other features of the
current system and reform options, see Social
Security Basics.

David C. John is Senior
Research Fellow in Retirement Security and Financial Institutions
in the Thomas A. Roe Institute for Economic Policy Studies at The
Heritage Foundation.